Enhanced index funds, which are designed to exceed their benchmarks, typically by one to two percentage points, not only are not even keeping up with them, but they’re actually falling short of them, in some cases by far more than two percentage poitns, The Wall Street Journal reports.

And they have subprime mortgage holdings to thank for that.

“Typically, enhanced index funds have very reliable higher returns than the benchmark index they track,” said Carl Hess, practice director for the Americas at Watson Wyatt Investment Consulting. “It was eye-opening to people to see larger-than-expected deviations in the losses in enhanced index funds.”

He added: “If these funds are underperforming the benchmark, it calls into question how stable the model is. Since the underperformance is widespread, there are also questions on how different the models are from each other and what the value addition is. It’s not a disaster, but it is a disappointment.”

“Subprime and contagion from subprime spelled doom for some of these managers,” said Jeff Tjornehoj, a senior research analyst at Lipper.

One fund that has done poorly, for instance, is the ProFunds U.S. Government Plus Fund. It’s down 2.47% over the past six months, while its benchmark, the most recently sold 30-year U.S. Treasury bond, is down only 0.25%.

The Rydex Strengthening Dollar 2x Strategy Fund is down 3.99% over the past six months, while the ICE U.S. Dollar Index is down 3.3%.

Enhanced index funds attempt to beat their benchmarks by taking advantage of price differences through futures and options.

The staff of Money Management Executive ("MME") has prepared these capsule summaries based on reports published by the news sources to which they are attributed. Those news sources are not associated with MME, and have not prepared, sponsored, endorsed, or approved these summaries.

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